Master Study Notes: Other Merchant Banking Activities — Debt, SME, and Employee Benefits (Chapter VIII - Part 4)
Role of Merchant Bankers in Issue and Listing of Debt Securities
The issuance and listing of debt securities in India are regulated under the SEBI (Issue and Listing of Debt Securities) Regulations, 2008. These regulations govern both public issues of debt securities and the listing of debt securities issued on a public or private placement basis on a recognized stock exchange.
When managing a debt issue, the Lead Merchant Banker must ensure strict compliance with key procedural and statutory requirements:
Key Regulatory Requirements for Debt Issuance
- Shelf Prospectus: This option is restricted and can only be issued by certain categories of issuers.
- Minimum Subscription: The issuer is allowed to determine the minimum subscription amount it seeks to raise, provided this amount is clearly disclosed in the offer document.
- Security Creation: For secured debt securities, the necessary charge/security must be created within a specified time limit.
- Debenture Redemption Reserve (DRR): Issuers are mandated to establish a DRR to ensure there are adequate funds for the redemption of the debentures.
- Retention of Over-Subscription: Issuers are permitted to retain over-subscription money up to a maximum of 100% of the base issue size.
- Secured Instruments: All debt securities issued under this framework must be secured instruments.
- Private Placement vs. Public Issue: In a private placement of debt securities, there is a strict limit on the number of potential investors who can be approached. If this limit is breached, the transaction is legally deemed a public issue, and all standard public issue requirements automatically apply.
- Facilities & Timelines: Public issues of debt securities permit online applications, allow investors to use the Application Supported by Blocked Amount (ASBA) facility, and follow the same post-issue timelines as public issues of equity.
Pricing and Draft Filing Roles
The Lead Merchant Banker must ensure that all comments received on the draft offer document are addressed before the final filing with the Registrar of Companies (RoC). The pricing of the debt securities is decided in consultation with the Lead Merchant Banker, and the issue can be structured either as a fixed-price issue or determined through a book-building process in line with SEBI specifications.
Role of Merchant Bankers in Share-Based Employee Benefits
Listed companies are permitted to issue shares to employees under the SEBI (Share Based Employee Benefits) Regulations, 2014. These regulations apply to schemes such as:
- Employees Stock Option Scheme (ESOS)
- Employees Stock Purchase Scheme (ESPS)
- Stock Appreciation Rights Scheme (SARS)
- General Employee Benefits Scheme (GEBS)
- Retirement Benefit Scheme (RBS)
Merchant Banker Responsibilities
A listed company is required to appoint a registered Merchant Banker to handle the implementation of share-based employee benefit schemes. The Merchant Banker's advisory role is mandatory from the initial implementation stages up to the point of obtaining the crucial in-principle approval from the recognized stock exchanges.
Exit Opportunities for Dissenting Shareholders
When a company undergoes major corporate changes, minority shareholders who disagree with the decisions are protected by exit provisions under the Companies Act, 2013.
Triggers for Exit Offers
An exit offer must be made by the promoters or shareholders in control of an issuer to dissenting shareholders under the following statutory triggers:
- A change in the business objects of the company as stated in its original prospectus.
- A variation in the terms of a contract referred to in the prospectus.
Exclusions and Role
The Merchant Banker acts as the transaction manager to ensure that the exit pricing and buy-out process are fair and compliant. However, these exit provisions do not apply to listed issuers that do not have identifiable promoters or shareholders in control.
Listing on the Institutional Trading Platform (ITP)
The SEBI ICDR framework regulates the listing of specified securities on the Institutional Trading Platform (ITP), which can be done either pursuant to an initial public offer (IPO) or otherwise.
- Platform Access: The ITP is a specialized trading platform designed exclusively for institutional and non-institutional investors.
- Eligibility: To list on this platform, entities must comply with the strict eligibility criteria specified under Regulation 106Y of the SEBI ICDR Regulations.
Merchant Banking in SME Securities (Issue & Listing)
The SME Exchange is a dedicated trading platform of a recognized stock exchange with nationwide trading terminals permitted by SEBI to list specified securities of Small and Medium Enterprises (SMEs). It operates separately and does not include the Main Board.
| Minimum Application Size | Minimum Allottees | Underwriting |
|---|---|---|
| ₹1,00,000 minimum application size | Minimum 50 allottees | Compulsory underwriting by the Merchant Banker (MB) |
| Applies to applications in the SME issue | Issue must have at least 50 allottees | Merchant Banker is responsible for ensuring the prescribed underwriting arrangement |
Key Rules for SME Issues
- Due Diligence and Filing: The Merchant Banker is responsible for filing the draft offer document and the mandatory due diligence certificate with the stock exchange.
- Compulsory Underwriting: Every SME issue must be underwritten. The Merchant Banker must ensure compulsory underwriting of the issue, either by acting as an underwriter themselves or by coordinating with other registered underwriters.
- Minimum Application Value: The Merchant Banker must ensure that the minimum application size stipulated in the offer document is not less than Rs. 1 Lakh per application.
- Minimum Number of Allottees: No allotment can be made under an SME Initial Public Offer (IPO) if the total number of prospective, successful allottees is less than 50.
SME Migration and Market Making
The SEBI framework provides clear corporate pathways for companies to move between the SME platform and the Main Board of stock exchanges.
1. Migration from Main Board to SME Exchange
A listed company on the Main Board can migrate its specified securities to the SME Exchange if it meets the following conditions:
- The company’s post-issue face value capital is less than Rs. 25 Crore.
- Shareholders approve the migration by passing a special resolution through a postal ballot.
- The issuer fulfills the specific listing and eligibility criteria laid down by the destination SME Exchange.
2. Migration from SME Exchange to the Main Board
An issuer listed on the SME platform can migrate its securities to the Main Board of the stock exchange (such as NSE or BSE) under the following capital condition:
- The post-issue face value capital of the company is more than Rs. 10 Crore and up to Rs. 25 Crore.
3. Compulsory Market Making
To ensure adequate liquidity for these smaller listings, the Merchant Banker is legally mandated to arrange and ensure compulsory market making through registered stockbrokers of the SME Exchange.
Comparative Matrix: SME Exchange vs. Main Board Listing
Table 8.5: SME vs. Main Board Features
| Feature / Metric | SME Exchange Listing | Main Board Listing |
|---|---|---|
| Minimum Application Size | Rs. 1,00,000 (Rs. 1 Lakh) per application. | Standard retail applications (usually capped between Rs. 10,000 to Rs. 15,000 per lot). |
| Minimum Allottees | Minimum of 50 prospective allottees required to complete allotment. | High public participation; varies based on book-building rules. |
| Underwriting | Compulsory underwriting of the entire issue, managed by Merchant Bankers. | Can be soft or hard underwritten; not mandatory for the entire public portion. |
| Market Making | Compulsory market making is mandated to maintain trading liquidity. | Optional; driven by standard secondary market liquidity. |
| Upper Capital Limit | Post-issue face value capital must be less than Rs. 25 Crore to remain/migrate. | Post-issue face value capital can exceed Rs. 25 Crore. |
Important Terms to Remember
- Debenture Redemption Reserve (DRR): A mandatory reserve account created by debt issuers to guarantee funds are available to repay debenture holders.
- Shelf Prospectus: A single prospectus that allows an issuer to make multiple public issues of debt securities over a specified validity period without filing a new prospectus each time.
- SME Exchange: A specialized trading platform of a recognized stock exchange with nationwide terminals, distinct from the Main Board, used to list SME securities.
- Compulsory Market Making: A regulatory requirement on the SME exchange where brokers are appointed to continuously provide two-way buy and sell quotes to ensure liquidity.
- Dissenting Shareholders: Minority investors who vote against major changes in a company's business objects or contract terms.
Key Takeaways
- Secured Debt Priority: Debt securities issued to the public must be secured, and any over-subscription can only be retained up to a maximum of 100% of the base issue size.
- Employee Benefit Lock-in: Merchant Bankers have an absolute mandate to guide listed companies through the legal process of implementing ESOPs and other share-based benefits up to the point of stock exchange in-principle approval.
- Protecting Dissenters: Exit offers must be managed by promoters under the Companies Act if there is a change in corporate objects, but this protection is absent if the company has no identifiable promoters.
- SME Liquidity Safety: To protect retail investors in the SME sector, SEBI enforces strict barriers, including a high Rs. 1 Lakh minimum application size, a minimum of 50 allottees, compulsory underwriting, and mandated market making.